Principal-Only

Principal-only (PO)

A mortgage-backed security (MBS) whose holder receives only principal cash flows on the underlying mortgage pool. All the principal distribution due from the underlying collateral pool is paid to the registered holder of the stripped MBS on the basis of the current face value of the underlying collateral pool.

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principal-only (PO)

Of or relating to a derivative mortgage security scheduled to receive all the principal but none of the interest payments in a pool of mortgages. The security is purchased at a large discount from par value. In addition, the owner of the security can benefit from a higher yield if mortgage prepayments are made, thus returning the principal to the investor at an earlier date. Compare interest-only.

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Principal-Only

Describing a derivative in which the underlying asset is future principal payments on a pool of mortgages or other debt obligations. Principal-only derivatives are issued at a deep discount to their par value; that is, one buys such derivatives for an amount less than the principal payments to which the holder is entitled. The profit on a principal-only derivative comes from the amount by which principal payments exceed the amount that the holder pays for the security. For that reason, holders of these derivatives can benefit from prepayment risk, because when property owners repay their mortgages more quickly, principal-only derivative holders receive their returns more quickly.